The Closing Bell
5/30/15
Statistical
Summary
Current Economic Forecast
2013
Real
Growth in Gross Domestic Product:
+1.0-+2.0
Inflation
(revised): 1.5-2.5
Growth
in Corporate Profits: 0-7%
2014
estimates
Real
Growth in Gross Domestic Product +1.5-+2.5
Inflation
(revised) 1.5-2.5
Corporate
Profits 5-10%
2015
estimates
Real
Growth in Gross Domestic Product (revised)
0-+2%
Inflation
(revised) 1.0-2.0
Corporate
Profits (revised) -5-+5%
Current Market Forecast
Dow
Jones Industrial Average
Current Trend (revised):
Short
Term Uptrend 17273-20078
Intermediate Term Uptrend 17431-22559
Long Term Uptrend 5369-19175
2014 Year End Fair Value
11800-12000
2015 Year End Fair Value
12200-12400
Standard
& Poor’s 500
Current
Trend (revised):
Short
Term Uptrend 2028-3007
Intermediate
Term Uptrend 1830-2597
Long Term Uptrend 797-2138
2014 Year End Fair Value
1470-1490
2015 Year End Fair Value
1515-1535
Percentage
Cash in Our Portfolios
Dividend Growth
Portfolio 51%
High
Yield Portfolio 52%
Aggressive
Growth Portfolio 53%
Economics/Politics
The
economy is a neutral for Your Money. The data
this week was slightly weighed to the negative by quantity and the positive by
quality: positives---April new home sales (note: last week I mistakenly listed new home sales instead on
housing starts), April pending home sales, weekly purchase applications, March Case Shiller home price
index, May consumer confidence and consumer sentiment and April durable goods
orders; negatives---weekly mortgage applications, month to date retail sales,
weekly jobless claims, the May Markit flash services index, the Dallas Fed
manufacturing index, first quarter corporate profits and the May Chicago PMI;
neutral---the Richmond Fed manufacturing index, first quarter GDP and price
deflator.
The primary
indicators this week were April new home sales (plus), April durable goods
orders (plus) and first quarter GDP (neutral) and corporate profits (negative)---a
positive showing. Note though that I rated
the poor GDP number a neutral just because it was not quite as bad as had been
expected. In sum, I rate this as a
neutral week, meaning that the last eighteen weeks of economic data have been
negative sixteen times and neutral twice.
That is a pretty abysmal showing.
Still the two neutral weeks were close enough together that it may be a
sign that the economy is starting to flatten out---a circumstance that we desperately
need to avoid having to lower our economic growth forecast even more.
Our forecast:
‘a much below average secular rate of recovery,
exacerbated by a declining cyclical pattern of growth, resulting from too much government spending,
too much government debt to service, too much government regulation, a financial
system with an impaired balance sheet, and a business community hesitant to
hire and invest because the aforementioned, the weakening in the global
economic outlook, along with...... the historic inability of the Fed to
properly time the reversal of a vastly over expansive monetary policy.’
The pluses:
(1)
our improving energy picture. ‘Oil
production in this country continues to grow which is a significant
geopolitical plus. However, we have yet
to see the ‘unmitigated’ positive attributed to lower oil prices by the
pundits. Not surprisingly, with oil
prices up, this same crowd is trumpeting the pluses that rising prices will
have on capital spending. If they keep
trying, the law of averages says that they will eventually be right. But who will listen? ‘
The
negatives:
(1)
a vulnerable global banking system. This week:
[a] Deutschebank pled guilty to falsifying prices of
its derivatives holdings
Derivatives remain a blind spot in the TBTF banks
(medium):
[b] our Masters
of the Universe banks {Citi, JP Morgan and Bank of America} are under
investigation of facilitating the bribe payments in the world soccer scandal.
‘My concern here.....that: [a] investors ultimately
lose confidence in our financial institutions and refuse to invest in America and
[b] the recent scandals are simply signs that our banks are not as sound and
well managed as we have been led to believe and, hence, are highly vulnerable
to future shocks, particularly a collapse of the EU financial system.’
(2) fiscal
policy. Nothing this week of
consequence.
(3) the
potential negative impact of central bank money printing: The
key point here is that [a] the Fed has inflated bank reserves far beyond any
comparable level in history and [b] while this hasn’t been an economic problem
to date, {i} it still has to withdraw all those reserves from the system
without creating any disruptions---a task that I regularly point out it has
proven inept at in the past and {ii} it has created or is creating asset
bubbles in the stock market as well as in the auto, student and mortgage loan
markets.
Thankfully
quiet after the s**t storm of confusion from the Fed last week.
(4) geopolitical
risks: the reportable items this week were [a] the buildup of Russian weapons
on the Ukraine border. That isn’t
necessarily bad news in the sense that Kerry could very well have agreed to
that {Russian hegemony over Ukraine} in his recent meeting with Putin and [b]
the ISIS siege of Iraq’s largest oil refinery---not a happy occurrence if contemplating
global oil supplies,
(5) economic
difficulties, overly indebted sovereigns and overleveraged banks in Europe and around
the globe. The key datapoints this week
were:
[a] mixed Japanese
data. Early in the week I thought we
might get a second week in a row of upbeat stats out of Japan; but that was
deep sixed by poor numbers later. I am
not giving up yet that Japan could be improving; but clearly we need more than
one positive week followed by a mixed week before even considering that a turn
in the economy is possible,
[b] the turd in
the global economic punchbowl is China where the data has not been good and
keeps looking worse. This week a third large
Chinese company defaulted on its ‘in country’ bonds. While the Bank of China seems to be pumping
liquidity into its banking system in its own special version of QE, results to
date have not shown promising results,
[c] the Greek/Troika
bailout discussions continued---if that is what you want to call them. For the last two weeks, they have mostly been
comprised of the Greek government making upbeat statements about the progress
being made in the bailout negotiations and the Troika slam dunking those
comments as wishful thinking.
There was a
positive development on Friday in which the IMF said that it was considering allowing
Greece to make all payments {there are four} due in June at the end of June,
effectively postponing the June 6 maturity.
This is a clear reminder of the eurocrats excellence at kicking the can
down the road. Certainly, it buys time for a bail out agreement. Whether it works remains to be seen.
Great
analysis of the ongoing events (medium and a must read):
My bottom line here hasn’t changed: I don’t know how this ends, I don’t
know what that means for the markets but I do believe that there will be
unintended consequences; and since those are by definition unknowable, this
situation demands some caution.
‘Muddling
through’ remains the assumption for the global economy in our Economic Model
with the proviso that if a Greek default/exit occurs, all bets are off. This
remains the biggest risk to forecast.
Bottom line: the US economic news improved slightly, in the
sense that a week of mixed stats is better than a sharp stick in the eye. We need more of that to lower the risk that I
may have to revise our forecast down again.
The
international data didn’t improve the odds.
After an upbeat week of Japanese stats, they turned a bit more mixed
this week. There were two disappointing EU
GDP reports (Switzerland and Greece). And the news out of China remains dismal.
Finally, the Greek/Troika negotiations managed
a last minute delay to avoid a Greek default/exit next week. But that technically could only be postponed
until June 30---unless, of course, the IMF postpones repayment again.
The Fed thankfully
was quiet this week---probably trying to figure out how to spin last week so
there appears to be a semblance of logic in their words and actions. I remain as confused as ever as to what these
guys will do next; though I am more sure that whatever they do, it will have
more impact on the Markets than it has on the economy.
This week’s
data:
(1)
housing: April new home sales were much stronger than
forecast, as were April pending home sales; weekly mortgage applications declined
while purchase applications increased; the March Case Shiller home price index
rose more than estimates,
(2)
consumer: month to date retail chain store sales slowed;
weekly jobless rose versus expectations of a fall; May consumer confidence and
consumer sentiment were better than anticipated,
(3)
industry: April durable goods orders fell less than consensus;
the May Markit flash services index was below forecast; the May Chicago PMI was
terrible; the Richmond Fed manufacturing index was in line while the Dallas Fed
index was well below estimates,
(4)
macroeconomic: revised first quarter GDP came in slightly
above negative expectations; the price deflator was in line; corporate profits
were down almost 6%.
The
Market-Disciplined Investing
Technical
The indices
(DJIA 18010, S&P 2107) were down on the week. Both closed above their 100 day moving average
but below their former all-time highs.
The S&P is in a struggle passing above and below that level several
times while the Dow managed a one day jaunt above its comparable level and is
now well below it.
Longer term, the
indices remained well within their uptrends across all timeframes: short term
(17273-20078, 2028-3007), intermediate term (17431-23559, 1830-2597 and long
term (5369-19175, 797-2138).
Volume rose
markedly on Friday; while unsurprisingly breadth was poor. The VIX was up modestly, but not as much as I
would have expected on lousy day for pin action. That along with a finish below its 100 day
moving average and the upper boundary of a very short term downtrend keeps this
indicator a plus for equities.
Margin debt hits
all time high (short):
The long
Treasury rose slightly on Friday, but still closed below its 100 day moving
average and within its short term downtrend.
In Friday’s trading, it touched a minor resistance level, then backed
off. A push above that level will add
some momentum to the upside.
GLD continues to
meander within a short term trading range.
Meanwhile, oil was up big on Friday, closing right on the upper boundary
of its short term trading range; and the dollar was off slightly but remained
above its 100 day moving average and the lower boundary of that former short
term uptrend.
Bottom line: the
Dow tried to make a new high last week, but failed and has declined ever
since. The S&P did manage to confirm
a new high but just barely, on anemic volume and has been unable to return to
that level. On a more positive note,
both of the Averages have established a series of higher lows and until that is
broken, I have to assume that, at the moment, the buyers have the edge.
‘I feel almost certain that, having come
this far, the indices will at least make an old school try at challenging those
upper boundaries. That said, I also
believe that challenges will be unsuccessful---which, from a strictly technical
viewpoint, makes the short term risk/reward in the Market right now
unattractive.’
Longer term, the
trends are solidly up and will be so until the short term uptrends, at the very
least, are negated.
Fundamental-A
Dividend Growth Investment Strategy
The DJIA (18010)
finished this week about 49.1% above Fair Value (12073) while the S&P (2107)
closed 40.5% overvalued (1499). Incorporated
in that ‘Fair Value’ judgment is some sort of half assed attempt at getting fiscal
policy under control, a botched Fed transition from easy to tight money, a
historically low long term secular growth rate of the economy and a ‘muddle
through’ scenario in Europe, Japan and China.
This week’s mixed
US economic stats, while a welcome break from the steady drumbeat of poor
reports, were still mixed. And, as I mentioned
several times, we need to have something a little better than mixed just to meet
our current downwardly revised forecast.
So net, net, it did nothing to alter the assumptions in either our Economic
or Valuation Models.
Likewise, Japan’s
economic numbers contained both good and bad news, which was a bit of disappointment
given last week’s more upbeat data. The
key remains follow through. Europe and China both disappointed this
week---Europe because it broke the recent trend in improving stats; China
because things just keep getting worse.
I noted last week that the economic progress
being reflected in the EU and Japanese numbers were much welcomed in that if
they were a sign that the trend in the international economy was stabilizing and
perhaps even recuperating, our ‘muddling through’ scenario had an increased probability of being correct. This week didn’t help.
All that said, as I have explained numerous
times lousy economic data (at least at the current level of ‘lousy’) won’t
impact the numbers in our Valuation Model, but it will almost certainly force
changes in Street Models which will likely cause heartburn for equity prices.
Thankfully, all
was quiet on the central banking front, though that doesn’t remove the clear
and present danger of the consequences of the unraveling of QE on the
securities markets.
The Middle East
just keeps getting more complex. ISIS now
has the largest refinery complex in Iraq under attack and Obama is doing His
best ‘deer in the headlights’ impression.
If the ISIS action leads to problems in the level of global oil
production, this could cause problems for the equity market---at least if
history is any guide.
We are now at
T-7 on the IMF repayment which Greece has already said it couldn’t make without
a bailout. This week was filled with
claims of an impending deal and counter claims that someone was smoking
dope. This has all the drama and bluster
of the final act; but these guys have such a rich history of kicking the can down
the road, I feign to predict a conclusion.
And speaking of
kicking the can down the road, the IMF has apparently given the Greeks a
reprieve on next Friday’s debt repayment, allowing them to repay all four June
maturities on June 30. My bottom line is
that I have no idea how this resolves itself but if a default/Grexit occurs there
are apt to be unintended consequences that are disruptive to the Market.
‘As I noted last week, I have no clue how to
quantify the aforementioned geopolitical risks’ impact on our Models even if I
could place decent odds of their outcome because: (1) the outcomes are mostly
binary, i.e. Greece either exists the EU or doesn’t and (2) they all most
likely incorporate potential unintended consequences, which by definition are
unknowable. Better to just say these are
potential risks with conceivably significant costs and then wait to see if we
‘muddle through’ or have to deal with those costs. The important investment takeaway, I believe,
is to be sure that your portfolio had at least some protection in the downside.’
Bottom line: the
assumptions in our Economic Model are unchanged but still in danger of being
revised down again. If they are anywhere
near correct, they will almost assuredly result in changes in Street models that
will have to take their consensus Fair Value down.
The assumptions
in our Valuation Model have not changed either; though there are scenarios
listed above that could lower Fair Value. That said, our Model’s current calculated Fair
Values are so far below current valuation that any downward revisions by the
Street will only bring their estimates more in line with our own.
Update on
Buffett’s favorite valuation metric (medium):
Everything is
overvalued: an interview with Robert Shiller (medium):
I
can’t emphasize strongly enough that I believe that the key investment strategy
today is to take advantage of the current high prices to sell any stock that
has been a disappointment or no longer fits your investment criteria and to
trim the holding of any stock that has doubled or more in price.
Bear
in mind, this is not a recommendation to run for the hills. Our Portfolios are still 55-60% invested and
their cash position is a function of individual stocks either hitting their
Sell Half Prices or their underlying company failing to meet the requisite
minimum financial criteria needed for inclusion in our Universe.
DJIA S&P
Current 2015 Year End Fair Value*
12300 1525
Fair Value as of 5/31/15 12073 1499
Close this week 18010
2107
Over Valuation vs. 5/31 Close
5% overvalued 12676 1573
10%
overvalued 13280 1648
15%
overvalued 13883 1723
20%
overvalued 14487 1798
25%
overvalued 15091 1873
30%
overvalued 15694 1948
35%
overvalued 16298 2023
40%
overvalued 16902 2098
45%overvalued 17505 2173
50%overvalued 18109 2248
55%
overvalued 18713 2323
Under Valuation vs. 5/31 Close
5%
undervalued 11434 1420
10%undervalued 10832 1345
15%undervalued 10230 1270
* Just a reminder that the Year
End Fair Value number is based on the long term secular growth of the earning
power of productive capacity of the US
economy not the near term cyclical
influences. The model is now accounting
for somewhat below average secular growth for the next 3 to 5 years.
The Portfolios and Buy Lists are
up to date.
Steve Cook received his education
in investments from Harvard, where he earned an MBA, New York University, where
he did post graduate work in economics and financial analysis and the CFA
Institute, where he earned the Chartered Financial Analysts designation in
1973. His 47 years of investment
experience includes institutional portfolio management at Scudder. Stevens and
Clark and Bear Stearns, managing a risk arbitrage hedge fund and an investment
banking boutique specializing in funding second stage private companies. Through his involvement with Strategic Stock
Investments, Steve hopes that his experience can help other investors build
their wealth while avoiding tough lessons that he learned the hard way.
